I. Field of the Invention
The invention generally relates to the field of financial investing, and, more specifically, to a tax advantaged transaction structure and method for investing future receivables and other assets with ascertainable economic gain.
II. Description of the Related Art
People have historically sought ways to obtain a combination of a higher rate of return, while also decreasing the risks on their investments. Traditional sources of investment capital have recently given way to new concepts of property that can be bought, sold, and invested to realize a profit. The holders of these new concepts of property desire to 1) diversify their investment in a manner designed to produce a greater overall rate return; 2) reduce risk of loss associated with having their funds invested with only a single obligor or in a single asset; 3) alter the timing of their existing payment stream which may be inflexible and incongruent with their current economic needs; and 4) accomplish these desires in a manner that results in a deferral tax. These desires represent fundamental investment objectives sought by ordinary investors; however, the holders of the new concepts of property are deprived of these fundamental investment objectives due to the peculiarities of the property they hold and the heretofore available techniques for disposing of such assets.
One example of a new resource for investing has arisen from what is known as the structured settlement. Each year more and more people are receiving structured settlements as a result of compensation for tort injuries. Historically, tortfeasors paid damages as a lump sum to the claimant, but recent trends have shifted compensation to tort victims to a periodic schedule. This phenomena has been magnified by the insurance industry that receives federal tax incentives for establishing structured settlement arrangements with tort victims as opposed to lump sum settlements. It is commonplace for insurance companies to shift the payment obligation to a related but third party corporation. The related corporation then purchases a commercial insurance annuity often from a related insurance company that will make periodic payments to the tort victim based on a fixed schedule, as well as pay a nominal rate of interest that is frequently less than 5%. The initial principal of the annuity is a fraction of the original settlement amount, but interest earned on the annuity over the settlement payment period generates the remainder of the future payments due. In effect, the tort victim is making a low interest loan to the insurance company. The insurance company is then enabled to invest the funds of the annuity in more profitable investments and realize a profit in the difference between the annuity percentage that they must pay to the tort victim and the actual return on the annuity investment. Thus, insurance companies have a vested interest in promoting structured settlements for tort victims.
Unfortunately, the tort victim or claimant who is to receive the settlement is locked into a rigid payment scheme over a fixed number of years and receives a nominal rate of interest over the life of the annuity. For example, suppose a tort victim was awarded damages totaling $100,000. If the tort victim accepts a lump sum payment, the insurance company must immediately outlay the entire $100,000 of its own money payable to the tort victim. However, if the tort victim is to receive the money in a structured settlement directing payment of $10,000 a year for ten years, the insurance company will not have to outlay $100,000 of its own money. Instead, the insurance company can establish an annuity and make a one time initial principal deposit into the annuity that is a fraction of the total settlement amount. By reducing the $100,000 to a present value amount and relying on the generated interest to create the difference between the present value and the $100,000 amount, the insurance company only actually outlays a percentage of the entire settlement. Thus, the tort victim not only has to wait to receive payments over the life of the structured settlement, but the tort claimant is also penalized by inflation on the future payments since the value of the future payments will be less than any previous payment. Moreover, the tort claimant effectively has no diversification in the investment such that the tort claimant may earn a greater rate of return than the fixed nominal rate of interest on the annuity; the tort claimant has 100% of her investment at risk with a single obligor; and her payment schedule is fixed and inflexible for a period of years, often in excess of twenty years.
Another recent investment opportunity has arisen in the form of lottery payments. Similar to the structured settlements, a lottery recipient receives a fixed amount of money each year over a set period of years. When a person wins a lottery, the organization that is to pay the lotteryxe2x80x94usually a state governmentxe2x80x94establishes an annuity to satisfy its obligation to make the future lottery payments. The state initially invests a fraction of the total winnings into an annuity and relies on a nominal interest rate return to satisfy the future prize payments. State governments purchase commercial insurance annuities or treasury bonds, either of which earn a low percentage rate. Thus, the lottery winner""s prize is effectively invested in a single asset earning an extremely conservative rate of return. The lottery winner""s rate of return could be significantly improved with a diversified investment portfolio composed of various investments generating yields greater than that achievable from a 100% investment in a single annuity with a single obligor.
Many lottery winners recognize that they could achieve greater diversification and greater rates of return on their lottery winnings if they were able to receive their lottery winnings in a single lump sum as opposed to the periodic payments. In accommodation, many states, as well as third party finance companies have offered lottery winner recipients the opportunity to take a lump sum settlement upon winning the lottery. However, the majority of lottery winners decline the lump sum offer since choosing this option results in the incidence of a substantial tax because the recipient must pay tax on the entire lump sum which typically is calculated using the highest income tax bracket. Because of this penalty, the majority of lottery winner recipients forgo the opportunity to take a lump sum payment to avoid loosing a substantial amount of the lottery winnings to taxes; however, a significant number of lottery prize winners still choose the lump sum option because of an immediate financial need.
Deferred compensation has generated another investment opportunity for professional athletes, executives and others entitled to receive such payments. Due to salary caps and other restrictions, professional sports teams often defer a portion of an athlete""s compensation to a period of time several years into the future. Many corporations offer executive employees various forms of deferred compensation for a variety of reasons as well. The athlete or executive often earns a nominal rate of interest on the deferred amount, but is otherwise deprived of any ability to diversify the investment to earn a greater rate of return or minimize the risk associated with having a single obligor, such as the professional sports team in the athlete""s case or the corporation in the executive""s case.
Another recent investment opportunity has developed from life or senior settlement payments. A great number of individual holders of life insurance policies allow their policies to lapse prior to death. A lapsed policy typically generally returns a de minimis cash value, if any. In a life settlement, an individual assigns his life insurance policy to a third party in exchange for current consideration. The third party assumes ownership of the policy, including the right to the death benefit as well as the obligation to make all future premiums. Through use of a life settlement, an individual is able to currently access a portion of his death benefit and invest the proceeds.
Still other examples exist where people own some asset or other property that they desire to sell, but the immediate taxation makes the transfer uneconomic, unless it is possible to postpone taxation on the economic gain from the sale. One example includes the sale of a fine piece of art. If a person sells a painting in year one, then the proceeds of that sale that exceed the seller""s purchase price are immediately taxed. Similarly, if a person sells his business assets, then the gain realized from the sale of those assets is immediately taxable at the end of the taxable year in which the business sale occurred. Similar taxation treatment exists for the sale of intangible assets such as patent rights or copyrights, as well as the royalties related thereto. Thus, people have sought to discover methods that permit the sale of an asset as described above but to also spread the tax liability over several years.
As a result, a method is needed that affords the opportunity to invest the present value of future receivable payments or other disposable assets in a manner that permits the owner of such assets to 1) diversify his investment in a manner designed to produce a greater overall rate return; 2) reduce risk of loss associated with having his funds invested with only a single obligor or in a single asset; 3) alter the timing of his existing payment stream which may be inflexible and incongruent with his current economic needs; and 4) accomplish these desires in a tax neutral manner while still observing all applicable tax laws.
The present invention is a tax advantaged transaction structure (TATS) and method affording owners of disposable property a method for greater flexibility in the manner of investing and the schedule for receiving payments while observing all applicable tax laws in the process. A first entity""s asset is evaluated and equated to an initial principal amount, which is based upon the present value of the first entity""s asset. An agreement is made for the first entity to assign the disposable asset to a second entity in exchange for a contingent installment obligation. The first entity is enabled to direct an investment portfolio composition that will be established based upon the initial principal amount. The first entity is also given a one-time opportunity to choose the periodic repayment schedule for the satisfaction of the contingent installment obligation. The second entity then sells the disposable property to a third entity for a cash value equivalent to the initial principal amount. The second entity then creates the investment portfolio from the cash proceeds received from the sale to the third entity and then also receives returns upon the portfolio, which are then paid back to the first entity in satisfaction of the contingent installment obligation. At the end of the contingent installment period, the portfolio is liquidated and a lump sum payment is made to the first entity.
A computer software program is implemented to execute many of the steps of the TATS method. The TATS software program includes logic to determine an initial principal amount of a first entity""s disposable property that is subsequently assigned to a second entity. The TATS software program configures the initial principal amount based on a discounted present value of the disposable property. The TATS software program incorporates logic to generate a portfolio of financial securities from a database of financial securities for the first entity to select one or more of the financial securities to investment the initial principal amount. The TATS software program additionally instructs an investment manager to establish an investment portfolio with monetary proceeds equivalent to the initial principal amount and thereafter tracks the investment financial performance of the investment portfolio. The TATS software program periodically generates statements for the first entity denoting the performance of the investment portfolio and also directs payment to the first entity at periodic intervals in satisfaction of said contingent installment note.
Other features and advantages of the present invention will become apparent to one with skill in the art upon examination of the following drawings and detailed description. It is intended that all such additional features and advantages be included herein within the scope of the present invention.